Healthcare

Canada’s limited health-care opportunities

Biotechs emerge north of the border, but they face challenges

RussBritt

TORONTO (MarketWatch) — Normally, it would be enough to make any U.S. chief executive drool.

Corporate tax rates in the high-single-digit to mid-20% range, and little or no health-care insurance costs to worry about? In some ways, it’s good to be a Canadian company.

But there’s always a downside, and it can be formidable when you’re in the health-care business north of the border.

“Across Canada, the funding for life sciences is virtually nil,” said David Allan, chief executive of YM BioSciences Inc.
YMI, -10.00%
(YM) “I like to say there is more money on one floor at 54 E. 54th St. in New York than there is in all of Canada.”

The health-care market in Canada is much smaller than in the U.S., and thus the interest in speculative ventures isn’t nearly as high. Plus, there is Canada’s publicly funded health-care system. While it doesn’t exactly hurt the sector north of the border, it doesn’t help.

Subtract two

With a publicly funded health-care system, it takes two critical investment opportunities out of the equation, namely health insurers and hospitals. While hospital stocks in the U.S. generally aren’t high-yielding stocks anyway, insurers had climbed prior to the passage of health-care reform.

There are a few medical products makers and some diagnostics firms, but the one area that has given birth to a number of health-related companies in Canada is biotechnology.

Of the 60 companies that fall under the “life science” category on the Toronto Stock Exchange, and another 68 on Toronto’s Venture Exchange, the lion’s share of them are biotech or pharmaceutical firms. They’re centered mostly in and around Toronto, with some in Vancouver and several scattered throughout Quebec.

They aren’t huge companies either. The biggest is Valeant Pharmaceuticals
VRX, +0.07%
(VRX) , which has made its home in the Toronto suburb of Mississauga after merging with Biovail Inc. Biovail had been based in Mississauga while Valeant was headquartered in the Los Angeles suburb of Aliso Viejo, Calif.

The newly merged firm now has a market cap of C$8 billion, nine times that of the next largest company on the Toronto exchange, Extendicare Real Estate Investment Trust.
EXETF, +0.95%
(EXE.DB) Its market cap is C$911 million.

The market caps go as low as C$1.5 million for biopharma firms on the exchange. On the venture exchange, it goes even lower — down to C$170,000.

Deep discount

Analysts say biopharma companies based in Canada are trading at a deep discount when compared with those in the U.S. — roughly half or less — but that may be a good thing.

“The big opportunity for big upside is in emerging biotech companies,” said David Martin, life sciences analyst for Dundee Securities near Toronto’s Bay Street financial section.

Yet those opportunities may be limited.

“Support for health-care development and in the biotech industry in general in the last couple of years, I think, has been tough everywhere. And I think in Canada it’s been particularly tough,” said Alan Ridgeway, health-care analyst at Paradigm Capital in Toronto.

Ridgeway went on to say: “It’s been really hard for these smaller companies that, 10 years ago, would have had no problem raising money for capital these days.”

YM BioScience’s Allan says there’s one particularly nagging problem for his company. He’s found that Toronto exchange rules — unlike any other exchanges — dictate that any company must issue a press release with any purchase or sale of shares under an equity line of credit. That can be onerous for biopharmas, which rely heavily on any and all types of funding to get started.

“Biotech companies around the world have an advantage that Canadian companies don’t have,” Allan said.

Headed south

Analysts and biopharma firms agree that most of the action comes from the U.S. That’s where the growth opportunities are, and many startup biotechs are looking for a major company in the U.S. to partner with, or to get bought out.

It’s not just biopharma firms that say most of the growth for them will be south of the border. CML HealthCare Inc. (CLC.UN) is a diagnostic service company that does lab work in Ontario and imaging in Canada and the U.S. It ranks third in market cap among life-sciences companies on the Toronto exchange at $865 million.

Company spokeswoman Alice Dunning says its lab services revenue represents a good, stable business for CML. That business is 85% funded by the Ontario Ministry of Health, which pays the company roughly $200 million a year.

But the government has divvied up the lab market between CML, two other major players and a handful of minor companies. CML’s market share is set at 30.6%, and no more. While the Canadian government allows for annual cost increases, CML’s market share cannot grow.

“You can’t break in [to the market]. The only way to break in is to buy that corporate cap from one of us,” Dunning said.

Squeezing margin

Though CML cannot grow its market share, it makes its business much more predictable and it can find ways to squeeze out more margin. Dunning says of all its businesses, its Ontario lab business gives CML its highest margins.

It’s Canadian medical imaging business is much more fragmented, she adds. It accounts for 25% of revenue, and is spread throughout five provinces. It’s a fee-for-service business, but again most of that revenue comes from the government. And since there’s no queue-jumping for these service unless there is a dire medical need, the workflow and income remains steady.

That’s where a stark contrast with the U.S. can be drawn. CML’s U.S. imaging business already accounts for 30% of CML revenue, even though the company just entered that market in 2008. The total Canadian market is $1 billion, and it’s $8 billion in the U.S.

And U.S. health-care reform isn’t impacting its business significantly, as U.S. Medicare cuts will only take a small fraction from its revenue.

“That’s part of the reason we entered the U.S., because there’s a lot of opportunities now,” Dunning said.

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